Pre-judgment interest is often the last thing litigants ponder. A recent award of $75 million in pre-judgment interest in Eli Lilly v. Apotex, 2014 FC 1254 (“Cefaclor”) may change that.
Cefaclor involved the infringement of patents for an antibiotic. Damages of $31M were awarded for the period 1997 to 2000. While the calculation of damages presented many interesting issues, it is the treatment of pre-judgment interest that may prove to be of broader importance. Although the pre-judgment interest prescribed under Ontario’s Courts of Justice Act for Q1 of 1997(when the infringement action was brought) would have been simple interest at 3.3%, the trial judge awarded interest on Lilly’s lost profits using an average compound interest rate of approximately 8.5%.
Pre-judgment interest is interest added to a plaintiff’s monetary award, calculated from the date of wrongdoing to the date judgment is pronounced. There are two ways of viewing pre-judgment interest.
The first is compensatory. Under this view, pre-judgement interest compensates the plaintiff for not having the damage award between the time it was harmed until the time damages were determined.
The second is restitutionary. Pre-judgment interest can be viewed as the amount the defendant must disgorge to the plaintiff as a result of having, on an interest-free basis, wrongly withheld money to which the plaintiff was entitled.
Note that these two rationales may not yield identical interest rates. For example, if the plaintiff’s borrowing cost is 6% but the defendant’s is 8%, the benefit to the defendant of holding the disputed funds in the period prior to trial is greater than the cost to the defendant in foregoing those funds.
In Ontario, the relevant statute pertaining to pre-judgment interest is s. 127 and 128 of the Courts of Justice Act. The pre-judgment interest rates set out in those sections will typically not fully reflect the reality of either the compensatory or restitutionary theories. This is so for two main reasons:
- Rate – the prejudgment interest rate is based on “the minimum rate at which the Bank of Canada makes short-term advances to Canadian banks”. This is a very low interest rate that reflects very little in the way of a premium for default risk.
- Method – the interest is calculated as simple, not compound interest.
In Cefalcor, Zinn J. picked up on many of the themes invoked by the Supreme Court in Bank of America Trust v. Mutual Trust Co. 2002 SCC 43, which had ruled that in certain circumstances it may be appropriate to a) depart from the statutory prejudgment interest rates, and b) award compound interest. He examined several methods for arriving at a reasonable compound interest rate:
- Treasury bills. These are short-term instruments issued by the government, and are essentially risk free.
- The plaintiff’s cost of borrowing. The rationale of this metric is compensatory; it looks at the plaintiff’s lost profits as funds that could have been used to pay down the plaintiff’s debt.
- The defendant’s cost of borrowing. This was a measure that was advocated by the plaintiff in Merck & Co., Inc. v. Apotex Inc., 2013 FC 751 (CanLII)(“lovastatin”), and received favourable comment by Snider J. as being restitutionary; it is a sound measure of the defendant’s benefit to be disgorged. Less intuitively, it can also be viewed as a measure of the plaintiff’s loss, if one considers that the plaintiff has been deprived of the difference between a market rate of return on lending funds to the defendant (or a firm with a similar default risk profile).
- The plaintiff’s Weighted Average Cost of Capital. This is the rate of return that investors in the plaintiff would require on their investments, based on the overall risk profile of the company. Zinn J. rejected this option – as did Snider J. before him in lovastatin - noting that WACC was a measure of what firms expect to earn on their capital, not what they actually do earn.
Zinn J. rejected all of these options. Instead, he calculated the interest rate with reference to the plaintiff’s actual “profit margins” during the damages period. (Though it is not clear from the decision, it is possible that Zinn J. was referring to the plaintiff’s return on capital. Profit margins are calculated by taking a firm’s profits and dividing by its revenue; they say nothing about the profit a firm earns as a percentage of its invested capital.)
This choice of metric is noteworthy, insofar as it tacitly assumes that as a result of not having access to the damages award, Lilly may have been required to forego additional profit-making ventures. While this assumption may be valid for smaller businesses without ready access to capital, it may be less so for large publicly traded companies such as Lilly, who have ready access to public debt and equity markets.
For large damages awards extending over lengthy periods of time, the issue of prejudgment interest can loom larger than the damages award itself. It behooves counsel (and their financial experts) to present arguments that are both conceptually sound and supported by evidence.
By Ephraim Stulberg. Published in the May 29, 2015 edition of Lawyers Weekly.